Mphasis - DXC will continue to be key in the near term - ICICI Securities

As in the previous two quarters, damage done by the sharp revenue decline in DXC (-18% QoQ, CC) was more than offset by strong growth in direct channel (+5%). Mphasis reiterated its confidence in the validity of Minimum Revenue Commitment (MRC) and building visibility in DXC channel even beyond Sep-21. Despite the sharp reduction in its revenue contribution (now 13%), DXC will continue to be a key variable led by its potential to drive near-term earnings surprises / disappointments (given the MRC construct). Continued momentum in Direct deal wins and healthy pipeline (+50% YoY) offers comfort on medium-term growth. Even when benchmarked against other companies with robust recent deal wins, Mphasis' utilisation / margin performance was disappointing. As the deals ramp up and investments are behind, margins may see some backended benefits. Despite the underwhelming performance during the quarter on both growth and margins, we remain positive on the stock. Our optimism is based on a trinity of factors, viz. healthy growth in earnings (15% over FY21E-FY23E), high yield (avg. DPR = ~60%), and reasonable valuations (~19x FY23E EPS).

- Largely in-line revenue growth and margins. Sharp drop in DXC revenue. Sequentially, gross revenue grew 1.6% (CC). While revenue growth in Direct was strong at 5.3%, DXC reported much sharper than expected revenue decline of 18.2%. Growth was led by verticals like ITCE (+11% QoQ, USD), Logistics & Transportation (+5%) and Insurance (+4%). Within Direct channel, growth was exceptionally strong in ITCE vertical (+57%) driven by the rampup of recent large deal wins. Across geographies, Direct business within Europe stood out with a strong revenue growth of 13.5% QoQ (CC).

Unlike the rest of the industry, EBIT margins remained largely stable (+30bps) on a QoQ basis. In line with the industry, the company witnessed offshore shift given the continued travel restrictions. However, the impact of this has not materialised in to material margin expansion given the investments in both sales and delivery.

It should be noted that while gross revenue growth (+1.6%) was weak, both billable (+4.4%) and overall headcount (+3.6%) reported a higher increase. While offshore utilisations remained stable (at 80%), onsite utilisations (including trainees) witnessed sequential contraction of 400bps. The headcount increase that led to the utilisation drop seems to be more pronounced in BPO services (vs Tech Services).

- Deal wins and pipeline continued to be healthy: Company announced healthy Direct TCV wins worth US$247mn (vs US$360mn in Sep-20). It should be noted this is the fourth consecutive quarter of >US$200mn TCV wins for the company. Management hinted at ~50% YoY increase in the deal pipeline. Despite sharp declines in DXC revenue during the current quarter, management is confident about validity of MRC and even building visibility in this channel beyond Sep-21. Company hinted at stable margins with an upward bias.

- Underwhelming performance, but medium-term prospects remain healthy. Continued momentum in Direct deal wins and healthy pipeline (+50% YoY) offers comfort on medium-term growth. Even when benchmarked against other companies with robust recent deal wins, Mphasis' utilisation / margin performance was disappointing. As the deals ramp up and investments are behind, margins may see some backended benefits. Despite the underwhelming performance during the quarter on both growth and margins, we remain positive on the stock. This is driven by the trinity of factors like earnings healthy growth (15% over FY21- 23E), high yield (Avg. DPR = ~60%) and reasonable valuations (~19x FY23E EPS).

Shares of MPHASIS LTD. was last trading in BSE at Rs.1600.7 as compared to the previous close of Rs. 1599.8. The total number of shares traded during the day was 36651 in over 3406 trades.

The stock hit an intraday high of Rs. 1616.65 and intraday low of 1523.9. The net turnover during the day was Rs. 57636175.

Source : Equity Bulls

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